Auditing, 12th Edition
By Alan Millichamp and John Taylor
Contents:
About the Authors iii
Preface – Aims of the Book xi
Acknowledgements xvii
1 Introduction to Auditing – the Why of Auditing 1
Introduction 2
Agency Theory 2
Why Is There a Need for an Audit? 4
The Audit Process 8
International Pressures and Globalization 8
Objectives of Auditing 10
Directors’ Responsibilities 10
Auditor Responsibilities 11
Types of Assignment 12
Advantages and Disadvantages of an Audit 13
Auditing Theory, Postulates and Concepts 13
The Expectation Gap 17
2 Corporate Governance 22
Introduction 23
What is Corporate Governance? 23
Principles of Corporate Governance 23
‘Comply or Explain’ – Framework Versus
Legislative Approaches 24
UK Corporate Governance Code 25
Private and Unlisted Companies 27
The Wates Principles 28
Value of Good Corporate Governance 28
Substance over form 29
Companies Act 2006 30
Audit Committees 30
Sarbanes–Oxley (2002) 31
3 The Statutory Framework for Auditing 35
Introduction 36
The Companies Act 2006 36
Requirement to Have Auditors 36
Who Can Be an Auditor? 37
The Rights and Duties of an Auditor Under the Companies Act 2006 38
Appointment of Auditors 38
Remuneration of Auditors 39
The Removal of an Auditor 40
Resignation of Auditors 40
Auditor’s Duties 41
Auditor’s Rights 42
The Auditor’s Report 43
Auditor’s Rights to Attend Meetings 45
Powers of an Auditor 45
Recognized Supervisory Bodies 46
Recognized Qualifying Bodies 46
Professional Body Rules 47
4 Accounting Requirements
of the Companies Act 2006 52
Introduction 53
Accounting and Accounting Records 53
Statutory Books 55
Accounting Requirements 55
Accounting Principles 57
Content – Disclosure Requirements 58
True and Fair Override 58
Procedure on Completion of the Financial Statements 58
Period Allowed for Filing Accounts 59
Abridged or Filleted Accounts 59
Publication of Accounts 60
Dormant Companies 61
5 Auditing and Accounting Standards and Guidelines 64
Introduction 65
Role of the Financial Reporting Council (‘FRC’) 66
International Standards on Auditing (‘ISAs’) 66
Practice Notes 67
Accounting Standards 67
The Relevance of Accounting Standards to Auditing 68
6 Ethical Standards and Rules of Professional Conduct 71
Introduction 72
Principles-Based or Rules-Based Approach? 73
Fundamental Ethical Principles 74
Ethics – General Rules 76
General Ethical Threats 77
Threats to Independence 78
Provision of Non-Audit Services 80
Commissions and Fees 82
Conflicts of Interest 82
Advertising and Publicity 84
Ethics and Quality Issues 84
Ethical Standards – Smaller Companies 85
Insider Dealing 85
Money Laundering 86
Whistleblowing 87
7 Quality Control in Audit Firms 91
Introduction 92
Audit Firm Organization 92
Planning, Controlling and Recording Individual Audits 94
Reviews of Audit Firms’ Procedures in General and of Particular Audits 95
8 Accepting Appointment as Auditors 100
Introduction 101
Client Screening 101
Other Considerations 101
Preconditions for an Audit 102
Professional Etiquette 102
Letters of Engagement 103
9 Accounting Systems and Internal Controls 108
Introduction 109
Internal Control 109
Limitations of Internal Controls 112
Internal Control Systems 113
Control Procedures 115
Control Activities in Specific Areas of a Business 117
10 Audit Planning, Audit Risk and Materiality 129
Introduction 130
Objectives 130
Meeting Audit Objectives 130
Required Procedures 131
Influences on an Audit 132
Planning the Audit 140
Internal Control System Review 143
Audit Strategies 149
Planning the Audit Work 152
Analytical Review Procedures 155
The Timing of Audit Work 156
11 Audit Evidence and Using
the Work of an Expert 163
Introduction 164
Professional Scepticism 164
Assertions 166
Reliability of Audit Evidence 168
Basic Techniques for Collecting Evidence 169
Using the Work of an Auditor’s Expert 171
12 Audit Testing, Sampling and
Analytical Review Procedures 178
Introduction 179
Relationship to Audit Risk and Materiality 179
Forms of Audit Testing 179
Audit Sampling 183
Sampling Approaches 187
Sampling Methods 189
Analytical Review Procedures 193
13 Systems-Based Auditing 203
Introduction 204
Testing System Components 204
The Purchases and Expenses System 205
The Revenues (Sales) System 208
The Payroll System 213
Significant Deficiencies 216
The Audit of Small Entities 217
14 Risk-Based Auditing 224
Introduction 225
External Risks 226
Internal Risks 229
The Client’s Approach to Risk 231
Evaluating the Organization’s Risk Assessment Process 234
Why Use a Business Risk Approach to Auditing? 235
Understanding the Business Risk Approach 236
The Implications of the Business Risk Approach for the Audit 237
15 The Audit of Asse ts 243
Introduction 244
Aspects to be Verified 245
Verification of Non-Current Assets 245
Current Assets 251
Inventory and Work in Progress 252
Cut-off 256
Receivables 260
Accounting Estimates 264
Bank Balances 265
Loans 266
Cash 267
16 The Audit of Liabilities 273
Introduction 274
Verification Procedures 274
Trade Payables 274
Cut-off 275
Accruals 275
Provisions 276
Finance Lease Liabilities 276
Bank Overdrafts and Short-Term Loans 277
Amounts Due to Group and Related
Companies 278
Long-Term Liabilities 278
Share Capital and Reserves 278
Unrecorded Liabilities 278
Contingent Liabilities 280
Auditing Accounting Estimates 281
17 Auditing and Computers 286
Introduction 287
Auditors and Management Information Systems 287
Audit Risk and IT Systems 289
The Control Environment 290
The Audit Approach to Computerized
Systems 295
18 Audit Working Papers 302
Introduction 303
Purposes 304
Evidence of Work Carried Out 305
Nature and Content of Working Papers 306
Departure from Basic Principles 306
Content of Working Papers 306
Sample Working Papers 307
Professional Judgement 309
The Audit Programme 310
Standardization of Working Papers 313
Finalization 313
Smaller Audits 313
Ownership of Books and Papers 313
Accountant’s Lien 314
Retention of Working Papers 314
19 Internal Audit 319
Introduction 320
Role of Internal Audit 320
Differences Between Internal
and External Audit 321
Public Sector 322
External Auditors and Internal Audit 322
Outsourcing Internal Audit Services 323
20 Errors, Fraud and Unlawful Acts 327
Introduction 328
Errors and Misstatements 328
Fraud and Other Irregularities 329
Bribery and Corruption 331
Responsibility for Prevention and Detection of Fraud and Error 332
The Audit Approach 333
Audit Tests and Fraud 335
Reporting and Disclosure 336
Small Companies 338
Unlawful Acts of Clients and Their Staff 338
Audit Issues Arising From
Non-Compliance 340
21 Related Parties 347
Introduction 348
Disclosure 349
The Auditor’s Duties to Related Parties 350
Detailed Audit Procedures 351
Unusual Transactions Outside
the Normal Course of Business 352
Control of the Entity 353
Smaller Organizations 353
Modified Audit Reports 354
22 Use of Service Organizations 357
Introduction 358
Why Do Firms Outsource? 358
Audit Planning Issues 358
Accounting Records 360
Audit Evidence 360
Reports by Service Organization’s Auditors 361
Ethical Threats 361
23 Subsequent Events and Going Concern 364
Introduction 365
Subsequent Events 365
Adjusting and Non-Adjusting Events 366
Audit Tests for a Subsequent Events Review 367
Going Concern 368
Consequences of Going Concern 369
Directors’ Duties 370
The Auditor’s Procedures 371
Specific Audit Procedures 372
If Events Are Identified 374
Effect on Audit Reports 374
Specific Considerations about Going
Concern and Small Organizations 376
24 Management
Representations 380
Introduction 381
Contents of a Letter 381
Reliance on Letter of Representation 382
Auditor Responsibilities 383
Example of a Management Representation Letter 383
Refusal to Co-operate 385
25 The Final Review Stage of the Audit 388
Introduction 389
Opening Balances and Comparative Figures 389
The Auditor’s Interest 390
Uncorrected Errors or Misstatements 392
Final Accounts Review 393
Procedures 393
Auditors’ Duties in Respect of Compliance
with the UK Corporate Governance Code 394
Directors’ Remuneration Disclosure 396
26 Auditor’s Reports
to Shareholders 401
Introduction 402
Report on the Directors’ Responsibilities for the Financial Statements 402
Auditor’s Responsibilities 403
Bannerman Wording 403
The Auditor’s Opinion 405
Going Concern 407
Key Audit Matters 408
Basis of Opinion 409
When is an Unmodified Report Appropriate? 409
Contents of an Auditor’s Report 410
Additional Reporting for Listed Companies 415
Modified Audit Reports 416
Sample Wording of Modified Audit Reports 420
Listed Companies – Special Provisions 425
Emphasis of Matter Reports 426
Audit Reporting – Special Circumstances 427
Auditor’s Liability in Respect of Audit Reports 427
27 Auditor’s Reports to Directors and Management 432
Introduction 433
Communication with Those Charged with Governance 433
Significant Deficiencies in Internal Control 435
Reporting Where Part of the Audit Is
Carried out by Another Firm 435
Listed Companies and Others Applying the
UK Code of Corporate Governance 436
Reporting to the Audit Committee of PIEs 436
The Management Letter 437
Response by Management 441
The Report and Third Parties 441
Example of a Management Letter 441
28 Group Accounts 448
Introduction 449
Audit Considerations 450
Planning Issues 451
Component Auditors 452
Communication 453
Auditing Investments in Subsidiaries and Other Undertakings 454
Auditing the Consolidation 455
Modified Auditor’s Reports 456
Overseas Subsidiaries 456
Joint Audits 456
Support Letters to Subsidiaries 457
Transnational Audits 459
29 Auditor’s Liability 464
Introduction 465
Criminal Law 465
Civil Liability Under the Common Law 466
Duty of Care 467
Liability for Negligence 469
Minimizing Risk to Audit Firms 473
Limited Liability Partnerships (LLPs) 474
Limiting Auditor’s Liability 474
The Future 475
30 Review Engagements and Non-Audit Assurance Assignments 480
Introduction 481
Review Engagements 481
Direct Reporting Engagements 486
Negative Assurance 487
Prospective Financial Information 492
Assurance Engagements 496
Levels of Assurance 501
31 Public Sector Audit and Value for Money Auditing 509
Introduction 510
Supreme Audit Institutions (SAI) 512
Public Sector Auditing – UK 512
UK Government Departments 513
Local Public Bodies 515
England 515
Scotland 519
Wales 520
Northern Ireland 520
Auditing Issues 521
Internal Audit 522
Value for Money 525
32 Performance Evaluation, Environmental Reporting
and Corporate Social Responsibility Reporting Assignments 531
Introduction 532
Performance Evaluations 532
Environmental Reporting 533
Corporate Social Responsibility Reporting 539
33 Current Issues 545
Introduction 546
The Future of Regulation 546
The Future Structure of Audit Firms 546
Dominance of the ‘Big 4’ 547
The Role of the Auditor 548
The Future of Audit Reporting 548
The Future of Internal Control Reporting 550
Risk Disclosure 551
Audit Challenges 551
Cryptocurrencies and Blockchains 552
New Opportunities, New Problems 553
Appendix 1 557
Appendix 2 565
Appendix 3 566
Glossary 569
Index 581